Financing Your Own Home-based Start up
Linda Pliagas writes for www.ework.com – a Ms.Money partner.
In 1993, I decided to go into magazine publishing. I had no experience and worst of all, since I was still a college student, no money. Nevertheless, being young and optimistic, I published one issue before finding partners willing to help bankroll the project.
Together with much sacrifice and will power, my partners and I managed to publish a nationwide, quarterly publication from my spare bedroom for almost six years. We never got rich; in fact, we never could depend on the magazine’s revenue for all of our entire livelihoods. Although we never ended up on the cover of Fortune, I learned valuable lessons in starting a home business.
The first thing I realized is that ordinary people can accomplish extraordinary feats once they set their minds to it. In fact, from my calculations, my partners and I invested about $170,000 altogether. How four working-class individuals with bills and family responsibilities managed to scrape that kind of money in such a short time still amazes me! Secondly, I learned how to obtain funds from a variety of ways, which I will undoubtedly use for my next home-based endeavor. Here are some helpful tips to raise money for a new at-home business start-up.
The Essential Plan
Even before you begin to knock on the bank’s door or ask a well-to-do uncle for a handout, the first and most important element of any start-up is to formulate a business plan. Whether you’re planning to develop a manufacturing company that will eventually have a large industrial setting or a home-based desktop publishing office based from your kitchen table, a business plan is a blueprint on which to base the goals and agenda of the future enterprise. The more funds you are seeking, generally the more detailed the plan will need to be.
Priscilla Y. Huff, author of Directory of Home-Based Business Resources, writes that a business plan must contain the following information:
- Start-up expenses for business license, equipment, legal and accounting fees and other initial costs.
- Ongoing operation expenses, such as utilities and replacement of supplies.
- Cost-of-living expenses if you are going to devote yourself full-time to the business and you are the sole-supporter of yourself and/or your family. (Experts recommend a minimum of two years’ living expenses saved).
Show Me the Money
Once you’ve written a business plan, the next step is to seek the money. Ric Edelman, author of The Truth About Money and Ordinary People, Extraordinary Wealth believes the best way to obtain money is the traditional way, from a bank. One of the reasons that Edelman recommends going through a bank is so an entrepreneur will not have to relinquish control to anyone. This is an important aspect to consider since partnerships have such a high failure rate.
Edelman does realize that commercial loans are difficult to get. “Banks don’t like to lend money to people who need it. It is that difficulty that you must overcome,” he says. The reason most individuals don’t qualify for a loan is because they have a poorly written business plan. Edelman says three important questions must be addressed in the plan:
- What will you do with the money?
- How will you repay the bank?
- If your previous plan for repayment fails, what other alternatives do you have for repaying the loan?
If an entrepreneur gets a bank’s seal of approval, chances are the he or she has thought out the entire process of the potential business, which is an important sign of future success. But what if the bank laughs in your face? Edelman stresses that banks are excellent advisers and mentors. He suggests that if you’re turned down, find out what needs to be done. Ask them what vital information was left out. Discuss how the business plan should be reworked.
Obtaining a commercial loan is probably one of most typical ways to fund a start-up, yet it certainly isn’t the only one. Millie Szerman author of A View from the Tub, and a home-business expert, says generally a hesitation among people, especially women, exists in applying for loans. She says that most home-based businesses operate on a shoestring budget. She agrees that formulating a business plan is a terrific initial step, but questions how many people actually write it. “In the real world, I don’t think it’s done,” she admits.
One of the major roadblocks to being approved for a bank loan is if the business you want to start is in a field that you have little or no experience in. Or, perhaps another problem is a lack of collateral. Also, banks may not be as generous to lend money to people who are planning a home-based business, admits Szerman.
Given those possible barriers, here are some alternative funding ideas from other entrepreneurs. We’ve placed them in two categories: conservative and risky. Consider the riskier options only as a last resort, after you’ve run out of the more conservative options.
The Conservative Route
- Start Part-Time or Moonlight
Try starting your home-based business on the side or work at it part-time. This is an ideal way to test the waters before diving into a full-time endeavor.
- Use Personal Savings
It’s better to dip into your savings account rather than to get strapped with the high interest charges that you incur by using credit cards. Szerman advises that if you borrow from yourself make a clear plan on how that money will be paid back.
- Use Life Insurance
Borrow against your life insurance policy or stocks. Szerman recommends taking this step before maxing out credit cards with cash advances.
- Sell Personal Assets
Do you have income property? Why not sell it to finance that dream business? Better yet, do what Szerman did: refinance the property and stash the extra dough for a cushion, just in case.
- Find Corporate Sponsors
If you are developing new products and technology, find a larger company that offers money or access to a distribution network in exchange for licensing rights.
- Work it Out with Others
Edelman suggests turning to vendors for help. Ask them to offer you more flexible payment terms or inventory space so you can buy supplies in bulk, saving you money in the long run. Another funding possibility is to ask customers to pay 50% in advance. Also, offer customers a discount for early payment.
- Apply for a SBA Loan
Turn to the federal government as a source of help. The U.S. Small Business Administration (SBA) can offer guaranteed loans to small businesses with favorable terms. For more information, call (800) 827-5722.
- Look for Grants and Awards
If your business can contribute to your community’s development or job potential or education, your venture may qualify for a local, state or federal grant. Also entrepreneurial publications regularly discuss the latest financing sources and contests for which you may apply. Check with Gale Research at (800) 877-Gale. They provide an excellent reference guide that gives information on 260,000 grants per year.
- Barter Services
Since money is tight at the beginning of any business venture, bartering for services is a great way to gain experience and obtain materials or services you need. Please note that a barter exchange is still a taxable sale or income, so maintain detailed tax records.
- Venture Capital
According to the Kauffman Center for Entrepreneurial Leadership, the U.S. has the highest amount of money available for backing up start-ups among the rest of the major industrialized nations. The center concluded $4 billion in seed financing comes from venture capitalists. A good book to invest in is Directory of Venture Capital by Catherine E. Lister.
The following options are riskier in nature–use caution and good judgment.
- Deplete an IRA
Use caution when dipping into your pension plans. Not only will you be obligated to pay a penalty for withdrawing the money early, but also taxes will be taken out, which together can automatically wipe out 40 percent of your hard-earned cash. It’s best to hold off on depleting your nest egg and try other methods of financing.
- Credit Cards
Interest rates on cash advances are astronomical. I know we all read success stories about people who maxed out their cards and now are multi-millionaires, but we don’t hear about those who funded businesses that did not make it and must continue to pay huge monthly payments for years to come.
- Ask Aunt Mary
Many individuals do ask loved ones to invest in their company, but it can be risky if the business fails. Szerman cautions people to put everything in writing and have a clear plan for paying the money back even if the business didn’t work out. Also, don’t be disturbed when Aunt Mary begins to add her two cents about how the shop should be run. “Chances are he or she will feel they have a vested interest in the business,” says Szerman. She adds, “The last thing you need is someone telling you how much salt to put in your soup.”
- Use your Home
Edelman does not recommend a home equity loan because he has seen too many marriages and families destroyed because a business didn’t go quite the way they planned. However if you seek only a small amount of money and the payments won’t be that much higher (especially if you can find a lower interest rate) then the risk factor decreases.
- Establish a Partnership
It’s really difficult to find people who are willing to work as hard as the person who came up with the business idea. Most of the time in a partnership, one person is toiling from sun up to sunset while the other is putting in far fewer hours. Partnerships are not recommended, unless you have absolutely no other choice.